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Bounty Minerals, LLC v. Chesapeake Exploration, LLC

United States District Court, N.D. Ohio

December 23, 2019

Bounty Minerals, LLC, Plaintiff,
v.
Chesapeake Exploration, LLC, et al., Defendants

          MEMORANDUM OPINION AND ORDER

          PAMELA A. BARKER U.S. DISTRICT JUDGE.

         Currently pending are the following motions: (1) the Motion of Defendants Chesapeake Exploration, LLC. and Chesapeake Operating, LLC for Summary Judgment (Doc. No. 81); and (2) Plaintiff Bounty Minerals, LLC.'s Motion to Strike Defendants' Notice of Supplemental Authority (Doc. No. 94.) For the following reasons, Plaintiff's Motion to Strike (Doc. No. 94) is DENIED, and Defendants' Motion for Summary Judgment (Doc. No. 81) is GRANTED.

         I. Procedural History

         The procedural history of this matter has been recounted in prior decisions of this Court (see e.g., Doc. Nos. 22, 70) and will not be repeated in full herein. Rather, the Court will only set forth that procedural background necessary to provide context for the pending Motions.

         On July 11, 2017, Plaintiff Bounty Minerals, LLC (hereinafter “Plaintiff” or “Bounty Minerals”) filed a Complaint against Defendants[1] in the Court of Common Pleas of Carroll County, Ohio, seeking to recover royalties it believes it is owed under the terms of several oil and gas leases. (Doc. No. 1-1.) In this Complaint, Bounty Minerals asserted two breach of contract claims as well as a claim for declaratory judgment pursuant to Ohio Rev. Code § 2721.01 et seq. (Id.) Defendants removed the action to this Court on August 14, 2017, on the basis of diversity jurisdiction. (Doc. No. 1.)

         Shortly after removal, Defendants moved to compel arbitration with respect to one of the subject leases, and to stay this action relative to the remaining leases pending the outcome of arbitration. (Doc. No. 7.) Bounty Minerals responded by moving to amend the Complaint to remove from the litigation the lease that served as the basis for Defendants' request for arbitration. (Doc. No. 16.) On December 1, 2017, this Court (through then-assigned District Judge Sara Lioi) granted Bounty Minerals' motion to amend, permitting it to file an Amended Complaint that omitted the lease with the arbitration clause. (Doc. No. 22.) The Court also denied Defendants' motion to stay. (Id.)

         Bounty Minerals filed its Amended Complaint on December 6, 2017 and the Court thereafter conducted a CMC on January 8, 2018, at which it set various case management deadlines. (Doc. Nos. 25, 30.) Shortly thereafter, Defendants filed a Motion for Partial Dismissal, in which it sought an Order (a) dismissing all claims against Chesapeake Operating, (b) dismissing Count II (Breach of Contract) and Count III (Declaratory Judgment) of Plaintiff's Amended Complaint in their entirety; and (c) dismissing all claims against Chesapeake Energy Marketing. (Doc. No. 31.) In lieu of a response, Bounty Minerals filed a Motion for Leave to file a Second Amended Complaint. (Doc. No. 32.) On February 14, 2018, the Court granted Bounty Minerals' Motion to Amend, finding that the proposed amended complaint cured the alleged deficiencies set forth in Defendants' Partial Motion to Dismiss. (Doc. No. 35.)

         Bounty Minerals filed its Second Amended Complaint that same day. (Doc. No. 36.) Therein, it asserted the following alternative claims: (1) breach of contract against all Defendants based on Defendants' alleged breach of the royalties provisions of the subject oil and gas leases (Count I); (2) breach of contract claims against Defendant Chesapeake Exploration, LLC based on Defendant's alleged breach of the express covenant of good faith and reasonable prudent operator (Count II); and (3) breach of contract against all Defendants based on Defendants' alleged breach of the affiliate sales provisions of the subject leases (Count III). (Id.)

         The docket reflects the parties subsequently engaged in discovery. (Doc. Nos. 41, 42.) On August 10, 2018, Bounty Minerals filed another Motion for Leave to Amend Complaint, in which it sought to add several new defendants.[2] (Doc. No. 54.) Arguing the proposed new defendants would destroy diversity jurisdiction, Bounty Minerals also sought remand to state court. (Id.) On August 20, 2018, the Court conducted a status conference with counsel and the parties. (Doc. No. 70 at p. 3.) During that conference, the parties agreed to explore the possibility of settlement. (Id.) Later that month, the parties filed a joint motion to temporarily stay all case management deadlines so that the parties could participate in mediation. (Doc. No. 59.) The Court granted the motion and stayed the case. (Doc. No. 61.)

         The Court lifted the stay on January 10, 2019, after mediation failed to produce a resolution. On February 26, 2019, the Court issued an Opinion & Order denying Bounty Minerals' Motion for Leave to Amend and for Remand, finding that “the balance of equities compels the conclusion that Bounty Minerals should not be permitted to further amend its complaint to defeat jurisdiction.” (Doc. No. 70 at p. 9.)

         On April 12, 2019, Defendants Chesapeake Exploration, LLC and Chesapeake Operating, LLC (hereinafter referred to collectively as the “Chesapeake Defendants”) filed a Motion for Summary Judgment as to each of Plaintiff's claims. (Doc. No. 81.) Bounty Minerals filed a Brief in Opposition on May 3, 2019 (Doc. No. 83), to which the Chesapeake Defendants replied on May 17, 2019 (Doc. No. 84.)

         On June 26, 2019, the case was transferred to the undersigned pursuant to General Order 2019-13. On October 30, 2019, the Chesapeake Defendants filed a “Notice of Supplemental Authority” in support of their Motion for Summary Judgment. (Doc. No. 93.) Bounty Minerals moved to strike the Chesapeake Defendants' Notice on November 1, 2019. (Doc. Nos. 94, 95.) On November 15, 2019, the Chesapeake Defendants filed a Brief in Opposition. (Doc. No. 96.)

         On December 13, 2019, the Court conducted oral argument on the Chesapeake Defendants' Motion for Summary Judgment.[3] (Doc. No. 102.)

         II. Facts

         Bounty Minerals is in the business of purchasing oil and gas rights, including lease royalty interests, in the shale gas areas of Ohio, Pennsylvania, and West Virginia. (Doc. No. 36 at ¶ 6.) At issue in the present dispute are six (6) oil and gas leases that Bounty Minerals acquired between 2013 and 2015. (Id. at ¶¶ 8-17.) These Leases are identified in the Second Amended Complaint as follows: (1) the December 16, 2010 and January 7, 2011 leases between Alan L. Miller and Ohio Buckeye Energy, LLC (hereinafter “the Miller Leases”) (Doc. No. 36-2); (2) the October 8, 2011 lease between Christopher and Sandi Ryland and Chesapeake Exploration (hereinafter “the Ryland Lease”) (Doc. No. 36-4); (3) the March 9, 2011 lease between Dean Cobbs and Chesapeake Exploration (hereinafter “the Cobbs Lease”) (Doc. No. 36-6); (4) the May 3, 2013 lease between Mark and Elizabeth Ingham and Chesapeake Exploration (hereinafter “the Ingham Lease”) (Doc. No. 36-8); and (5) the October 8, 2011 lease between Michael and Dana Ritchie and Chesapeake Exploration (hereinafter “the Ritchie Lease”) (Doc. No. 36-10).[4] (Id.)

         The above Leases contain royalty provisions with respect to both oil and gas. The gas royalty provisions as set forth in the subject Leases are nearly identical, and provide as follows:

         9. ROYALTIES. The Lessee covenants and agrees:

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b. Gas Royalty. To pay to the lessor EIGHTEEN AND ONE HALF percent (18.5%) royalty based upon the gross proceeds paid to Lessee for the gas marketed and used off the leased premises, including casinghead gas or other gaseous substance, and produced from each well drilled thereon, computed at the wellhead from the sale of such gas substances so sold by Lessee in an arms-length transaction to an unaffiliated bona fide purchaser, or if the sale is to an affiliate of Lessee, the price upon which royalties are based shall be comparable to that which could be obtained in an arms-length transaction (given the quantity and quality of the gas available for sale from the leased premises and for a similar contract term) and without any deductions or expenses. For purposes of this Lease, "gross proceeds" means the total consideration paid for oil, gas, associated hydrocarbons, and marketable by-products produced from the leased premises without deductions of any kind except as provided in paragraph 44.

         Ryland Lease at ¶ 9 (Doc. No. 36-4) (emphasis added).[5]

         The oil royalty provisions differ among the various Leases. The Ryland, Ritchie, and Ingham Leases provide that the Lessee agrees as follows:

To pay to the Lessor EIGHTEEN AND ONE HALF percent (18.5%)[6] royalty based upon the gross proceeds paid to Lessee from the sale of oil, including without limitation other liquid hydrocarbons or their constituents and products thereof recovered from the leased premises so sold by Lessee in an arms-length transaction to an unaffiliated bona fide purchaser, or if the sale is to an affiliate of Lessee, the price upon which royalties are based shall be comparable to that which could be obtained in an arms-length transaction (given the quantity and quality of said products available for sale from the leased premises and for a similar contract term) and without any deductions or expenses. For purposes of this Lease, "gross proceeds" means the total consideration paid for oil, gas, associated hydrocarbons, and marketable by-products produced from the leased premises without deductions of any kind except as provided in paragraph 44.

See Doc. Nos. 36-4, 36-8, 36-10 (emphasis added). The Miller and Cobbs Leases provide that the Lessee agrees:

To pay Lessor seventeen and one half percent (17.5%) royalty based upon the gross proceeds paid to Lessee from the sale of oil recovered from the lease premises valued at the purchase price received for oil prevailing on the date such oil is run into transporter trucks or pipelines.

See Doc. Nos. 36-2 at PageID#s 1684, 1704; 36-6.

         Also of relevance herein, each of the six leases at issue impose an obligation on the Lessee to act “as a reasonable prudent operator exercising good faith in all of its activities with the Lessor.” See Doc. Nos. 36-2 at PageID# 1683, 1703; 36-4 at PageID# 1731; 36-6 at PageID# 1757; 36-8 at PageID# 1787; 36-10 at PageID# 1817.

         Chesapeake Exploration, Chesapeake Operating, and Chesapeake Energy Marketing are affiliates of one another and are all subsidiaries of Chesapeake Energy. See Deposition of Joshua Bowles (hereinafter “Bowles Depo.”) at Tr. 21-22 (Doc. No. 76-1). Defendant Chesapeake Exploration was the Lessee under the Leases at issue herein, as well as the operator and producer of the wells covered by the Leases. (Bowles Depo. at Tr. 30-33). Chesapeake Exploration installed centralized production pads at which the oil and gas are produced from several wells in a unit and delivered to a separator. See Expert Report of K. Terry dated February 9, 2019 (hereinafter “Terry Expert Report”) at ¶ 24 (Doc. No. 81-5.) The oil is separated and put in a tank, and the separated gas is measured and metered into the first receiving pipeline. (Id.)

         Chesapeake Exploration sold the oil to Chesapeake Energy Marketing (“CEM”) at the oil storage tanks located near the wellheads on the lease or unit premises. (Id. at ¶ 25.) With respect to gas produced at the wells at issue, Chesapeake Exploration sold the gas to CEM at the production pad based on the volumes of gas metered. (Id. at ¶ 26.) CEM then transported the oil, gas, and natural gas liquids from the wellhead and entered into contracts with third-party midstream companies[7] to perform various “post-production services, ” including gathering, treating, processing, storing, and transporting the oil, gas and natural gas liquids to downstream delivery points. See Terry Expert Report at ¶¶ 23, 26; Bowles Depo. at Tr. 102. According to Defendants, these post-production services “refine and enhance the value” of the oil, gas, and the natural gas liquids, thus allowing CEM to resell them at higher prices downstream. (Doc. No. 81-2 at ¶ 5) (citing Bowles Depo. at Tr. 235-236.)

         Pursuant to an Agency Agreement with Chesapeake Exploration, Defendant Chesapeake Operating (“CO”) received payment from CEM and calculated and paid Bounty Minerals royalties on behalf of Chesapeake Exploration. (Terry Expert Report at ¶ 27.) Along with the royalty payments, Chesapeake Operating provided Revenue Statements to Bounty Minerals, copies of which are attached to the Second Amended Complaint. (Doc. No. 36-12.) These Statements contain columns for, among other things, the month of production, what substances were produced, the volumes of substances produced, the price received for the sale of substances produced, applicable taxes, deductions and the royalty owner's interest in the substances that were produced and sold. (Doc. No. 36 at ¶ 30.)

         According to Bounty Minerals, the Revenue Statements it received from Chesapeake Operating represented that there were no deductions of post-production costs from the royalty paid to Bounty Minerals associated with the Leases at issue, “as the columns on the Revenue Statement associated with such costs and deductions showed ‘.00.'” (Id. at ¶ 32.) Bounty Minerals claims that, over time, it noticed that the sales values of the oil, gas, and natural gas liquids in the Revenue Statements associated with the Leases at issue were “substantially less” than the sales values of hydrocarbons on royalty stubs associated with other of Bounty's oil and gas leases in the same vicinity in the same timeframe. (Id. at ¶ 33.)

         Thus, on May 15, 2015, Lesley Thompson of Bounty Minerals sent an email to Chesapeake Energy's landowner relations department for clarification. (Doc. No. 36-13.) Therein, Mr. Thompson noted that, for the Ohio wells, “the gross deductions are zero and the net deductions are zero, ” and asked “does that mean that there are no deductions for drilling and operating these wells?” (Id.) On May 19, 2015, Chesapeake Energy's Revenue Team responded as follows:

For the Ohio wells, there are post-production costs associated with these wells, however these are not broken out on the check stub. We are passing on 100% of the price/post-production costs from the purchaser for the sale of the product. Any fees incurred by our purchaser from the wellhead to the final sales point are applied to the revenue prior to it being paid to Chesapeake for distribution.

(Id.) Chesapeake Energy also provided Bounty Minerals with a number of spreadsheets that identified post-production costs associated with a variety of wells that paid a production royalty to Bounty Minerals pursuant to the Leases. (Doc. No. 36-14.)

         When Bounty Minerals compared the data in the spreadsheets to the Revenue Statements associated with the Leases at issue, it claims to have found “substantial differences” between the two documents. (Doc. No. 36 at ¶ 37.) Bounty Minerals and Chesapeake Exploration then exchanged a series of letters regarding these alleged discrepancies. (Id. at ¶ 41.) Of note, on July 16, 2019, Ben Harris from Chesapeake Exploration sent Mr. Thompson a letter that provided, in relevant, part as follows:

By way of background, Chesapeake sells the oil and gas produced from the Lease to Chesapeake Energy Marketing, L.L.C. ("CEMLLC"), which is an affiliated marketing company that takes title to, and possession of, the oil and gas at or near the well. CEMLLC pays Chesapeake 97% of the proceeds it receives from the sale of the gas and natural-gas liquids, and 99% of the proceeds it receives from the sale of oil, less any postproduction costs incurred between the wellhead and downstream points of sale. CEMLLC retains a marketing fee of 3% and 1% for gas and oil respectively; neither marketing fee is passed on to the lessor. The price Chesapeake receives from CEMLLC for the sale of oil and gas, plus an amount equal to the 3% or 1% marketing fee referenced above, is the value shown in the "Price" column of the royalty statement.
***
***** [With respect to gas], [t]he sale of gas to an affiliated purchaser is expressly contemplated by the terms of the Lease, and the Lease provides that your royalties are to be computed at the wellhead. Since Chesapeake bears 100% of the CEMLLC marketing fee and since the price Chesapeake receives from CEMLLC is based on sales to unaffiliated third party purchasers and CEMLLC's actual downstream costs, we believe the price received in the sale to CEMLLC is ...

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